QUESTION
If a startup is temporarily out of money, can its co-founders be compensated in stocks based on their productivity?
Asked on Dec 16th, 2016 on Corporate Law - California
More details to this question:
Good afternoon. I am one of the five co-founders of a startup. Each of the co-founders owns 20% of the company. In the past year, we ran out of money, due to mismanagement of our funds, but we are expecting a new contract next month, which would bring in cash and solve our temporarily budgetary issues. During this past year, of the five co-founders, only two of us actively worked, continuing to provide support to our customers, even if we knew that we were unlikely to be reimbursed for our work. The other three co-founders put little or no effort. Is it possible to re-distribute the company's stock proportionally to the amount of effort put by each co-founder? Thank you, J.P.
1 ANSWER
Yes, the Board of Directors can vote to issue additional shares to some shareholders as compensation for services provided. However, if a dollar value can be attributed to those shares, then the shareholders receiving those shares wil owe state and federal income tax and withholding taxes on the award of those shares. They are payment for services, just like money.
That's why company's often award such bonus shares as options, so that they are not taxed.
Unless you have a shareholders agreement or employment agreement which speaks to the subject, a corporation is a democracy of the shareholders. If the 60% owners who are not doing much work, vote against giving additional shares to the working owners, there is nothing the working owners can do about it.
The sooner you resolve this issue, the better. In order to get such additional shares or options approved, you need one more vote. Prior to initiating a board meeting or shareholders meeting to deal with this issue, you should line up that third vote.
Dana Sack
Answered on Jan 08th, 2017 at 12:50 PM